Licensing and Patent Exhaustion

The Legal situation according to German law and the U.S. Federal Supreme Court decisions United States v. Univis Lens Co. and Quanta v. LG

Introduction

Patent exhaustion is an important factor of patent law having a substantial economic impact on licensing of patent rights – both for licensors and licensees. According to the doctrine of exhaustion, the patentee has made use of the statutory exclusive right of exploiting the patent (possibly through his licensee) and thereby has used it up so that he cannot prohibit subsequent activities of exploitation anymore.

We will review patent exhaustion according to German law in more detail. Although the doctrine of exhaustion is a common principle of German IP and copyright law, we will - for the sake of clarity and simplicity - limit ourselves to patents. Further, patent infringement and therefore also patent exhaustion are subject to the applicable national law. In case of infringement of a patent which is valid for the German territory, German law is therefore applicable. The German law on exhaustion is of particular interest because Germany is the most important venue for patent litigation in Europe as app. 60 % of all European patent infringement proceedings are handled in front of German Courts.

Before assessing selected aspects of the legal situation of patent exhaustion according to German law, we would like to give a short example of how a complex product consisting of several components is manufactured in today’s business life. In many cases, the manufacturer of a complex product buys some or even all components from suppliers and assembles them to become the end product (e.g. cars, mobile phones or personal computers). With regard to personal computers, this situation can be simplified as follows:

Patentee (P) is the proprietor of a product patent regarding e.g. a computer using a new chipset whose design is based on inventive activity. P licenses his product patent to the supplier (S). S manufactures the chipset (and not the entire computer!). The chipset can only be used as a component of computers. S sells it to M who is a manufacturer of personal computers and incorporates it into his personal computers before selling them to the consumer.

In the following we will explain some selected legal aspects regarding the exhaustion of patent rights according to German law. Further, we will review the U.S. Federal Supreme Court Decision United States v. Univis Lens Co. and the very recent decision Quanta Computer Inc. v. LG Electronics Inc. which set out important guidelines for patent exhaustion in the U.S. Finally, we will explore their potential implications for the doctrine of exhaustion according to German law and therewith also for patent licensing according to German law.

Rationale of Patent Exhaustion according to German Law

The doctrine of exhaustion aims at balancing the interests of the patentee in gaining a reasonable reward for the publication of his invention, on the one hand, and the interests of the general public in the free movement of goods and legal certainty on the other hand.

According to German legal understanding, the patentee’s rights conveyed by a granted patent are inherently restricted inter alia by the doctrine of exhaustion. As a reflex of the patentee bringing a patented product wilfully into the market, the patentee’s right of exploitation ceases and the patented product comes into the public domain. The German Federal Supreme Court states in its lead decision “Fullplastverfahren” (cf. GRUR 1980, 38) in this regard:

“This doctrine [of exhaustion] finds its justification in the argument that the holder of the rights who puts into circulation the product produced under the application of the protected procedure has had the opportunity to avail himself of the advantages granted by the patent.”

According to the case-law of the German Federal Supreme Court the parties are therefore not in a position to limit exhaustion directly by contractual means, as the legal principle of exhaustion is not in the discretion of the parties of a license contract.

Legal Situation in Germany

Coming back to the example of the chipset, this means that P’s patent rights are exhausted with regard to the chipsets. But what about P’s rights regarding personal computers (which are not manufactured by the licensee S but only by M)?

Under German law patent rights are exhausted if (i) the patented product is marketed (ii) by the patentee or a third party with the consent of the patentee (iii) in Germany, a member state of the EU or of the EEA.

According to case-law of the German Federal Supreme Court, patent rights are only exhausted in full if the licensee used the licensed patent in full. If, however, the licensee only manufactured a component of the patented product, the patent rights are only exhausted in part. The German Federal Supreme Court held accordingly in a decision from 1996 (cf. Federal Supreme Court, GRUR 1997, 116, 117 – “Brochure Rack”, English translation published in IIC 1998, 207) and ruled that exhaustion

“[…] can only be justified to the extent that the product placed on the market by the patentee himself or with his consent makes use of the patent. Only to this extent has he waived his rights by marketing; there is no basis for restricting the exclusive rights resulting from his patent rights beyond this.”

Returning to the example described above, this means that P’s rights are not fully exhausted according to German law. P’s consent only referred to the activities of S, i.e. the manufacture and marketing of the chipsets, but not to the manufacture and marketing of personal computers.

Consequences according to German law and Evaluation

As a consequence, M as the manufacturer of personal computers could not rely on patent exhaustion with regard to S’s license and therefore would also have to take a license from P. From the perspective of P, this would mean that he could grant a license to S and to M simultaneously and request license fees from both.

It has been argued that the patentee is rewarded excessively by giving him the opportunity to grant multiple licenses. Interestingly, the German Federal Supreme Court addressed this issue in the decision “Brochure Rack” by stressing that the patentee should only be rewarded once:

“The exhaustion of the patent right is the result of the marketing of the products covered by patent protection by the patentee or with his consent. Also in view of the fact that the exclusive right associated with the patent is a reward for the publication of the invention, the decision must be reserved to him if and to which extent use can be made of it. … If this, however, has happened, considering the purpose of patent law there is no reason to reserve the influence on the further destiny of the patent protected products to him beyond this first marketing. The patent proprietor shall only claim the rights from the protective right once.”

How does this fit together? The German Federal Supreme Court stresses that the patentee shall only be rewarded once but at the same time makes the proviso that the patentee must have been rewarded in full for the use of his invention which is not the case if the first licensee (in our example: S) only used parts of the patented technical teaching.

Although the Federal Supreme Court does not give further explanations in this regard, its ruling seems to be based on the understanding that the sum of the license fees obtained from several licensees add up to the same amount which the patentee would have received if his first licensee (in our example: S) had produced not only a component of but the entire patented product. Otherwise the patentee would be rewarded more than once for the use of the patent which is what the German Federal Supreme Court would like to avoid.

The U.S. Supreme Court ruled on patent exhaustion in a comparable case in United States v. Univis Lens Co. The U.S. Supreme Court held that rights resulting from a patent regarding finished lenses are exhausted if the patentee’s licensee manufactured the lens blanks which still had to be finished by the licensee’s customers using standard processes to become the patented lens. The Supreme Court reasoned that the patent rights regarding specific lenses were exhausted due to the manufacture of the lens blanks because (1) the lens blanks’ only and intended use was to be finished to become lenses according to the patent and because (2) the lens blanks embodied essential features of the patented device (Univis, 316 U.S., at 248-251).

The U.S. Supreme Court has very recently confirmed and extended this ruling in Quanta Computer, Inc. v. LG Electronics, Inc., 553 U.S. ---- (2008)1. LG sued Quanta for infringement of its patents with regard to Quanta’s personal computers although Quanta had purchased the allegedly infringing chipsets from LG’s licensee Intel. According to the U.S. Supreme Court, first the chipsets’ only and intended use was to be incorporated into a personal computer as Quanta had done. Second, the Intel chipsets constituted a material part of the LG’s patents because the only step necessary to practice the patent in its full scope was to add standard parts to manufacture a computer.

Coming back to the simplified example outlined above, we apply the described case-law of the U.S. Supreme Court: M as the manufacturer of personal computers may claim exhaustion of P’s patent rights by relying on the fact that S is licensed by P. Consequently, M would not have to take a license himself. In this context we have to assume that the requirements set out above are met, i.e. the chipsets embody an essential feature of the patented computer and their only and intended use is to be incorporated into a computer according to the patent. From P’s perspective this would mean that he may only grant one license to M but not to M’s customers.

This result is diametrically opposed to the result when applying the above-described case-law “Brochure Rack” of the German Federal Supreme Court.

Exhaustion of Method Patents According to German and U.S. law

In the above-described simplified example, we have assumed that P’s patents are product patents. But what is the current case-law in Germany and in the U.S. on the exhaustion of method patents?

According to established case-law of the German Federal Supreme Court, rights resulting from method patents cannot be exhausted. Rather, method patents could be – implicitly or explicitly – licensed, e.g. as part of the sale of an apparatus suitable to work the patented method. Such a license has “nothing to do with exhaustion” but is rather governed by contract law. Accordingly, the extent of the license and the fee are subject to the parties’ agreement (Federal Supreme Court, GRUR 1980, 38, 39 – Fullplastverfahren). The German Federal Supreme Court has confirmed this ruling in the decision “Bodenwaschanlage” dated 2000 in which the parties had agreed on the sale of an apparatus suitable to work a patented method and agreed on a royalty-bearing license inter alia for the method patent. According to the German Federal Supreme Court such a license is in line with antitrust law as it does not exceed the scope of the licensed method patent. The Court reasoned that the method patent related to the core of the licensed technology whereas the apparatus patents were only of marginal interest (cf. Federal Supreme Court, GRUR 2001, 223, 225).

To the contrary, the U.S. Supreme Court has ruled in Quanta v. LG that method patents can be exhausted. The Court reasoned that in many cases it is in the discretion of the patent drafter whether to characterize the patent claims as method claims instead of product claims thereby allowing him to “shield practically any patented item from exhaustion” and would allow an end-run circumventing the exhaustion doctrine.Conclusion

As outlined above, according to the case-law of the German Federal Supreme Court patents are not exhausted if only an – essential – part of the invention is marketed with the patentee’s consent. As outlined above, this is contrary to the U.S. Federal Supreme Court decisions United States v. Univis Lens Co. and Quanta v. LG holding that in such a case the patent may be exhausted. In Germany, the discussion has already started whether the current German case-law is a fair balance between the patentee’s and the public’s interests because it may excessively reward the patentee who can grant more licenses and eventually collect more license fees. However, there are no court decisions (yet) at least discussing this issue or even deviate from the current German case-law.

Regarding the exhaustion of method patents, the positions in Germany and the U.S. are contradicting with regard to the underlying legal doctrine (no exhaustion / exhaustion), but similar in argumentation: According to the established German case-law the authorized use of a method patent is subject to a contractual (possibly implied) license, the extent of which is also subject to parties’ agreement. According to the recent U.S. Federal Supreme Court ruling LG v. Quanta, express limitations in the licence agreements for method patents may avert exhaustion. Thus, license programs must be diligently structured and worded according to the recent case-law.

Although the German and the recent US case-law are not fully consistent, in both jurisdictions patent exhaustion is an important factor impacting substantially on the licensing of patent rights – both for licensors and licensees.

This article first appeared in Licensing in the Boardroom 2008, published by Intellectual Asset Management (IAM) magazine,www.iam-magazine.com